Market's Fluid Dynamics

October 26, 2001

Techs continue dominating the action . . . as heightened domestic tensions show no tendency to reduce their impact on the broader economic conditions. Wednesday we got the most recent Beige (Tan) Book Report from the Fed, showing slowing U.S. economic activity in all regions. That the softness is effecting every area ranging from manufacturing, to travel, to construction (fewer permits being pulled, as builders work to reduce existing inventory; very understandable), to financial services and of course advertising… none of this is other than expected. Eventually we continue to project a serious construction boom and spending spree based on pent-up demand, but not at such an early time that most citizens are more worried about staying alive than about major decisions on spending. This report, though containing nothing surprising, to at least a modest degree helped the continuing T-Bond stability; gaining almost a full point on Wednesday. The implication is a longer period of deflation and low rates.

This reported data is of course already not very current; but the few areas we thought would do well, such as television sales and the like, have in fact been very strong, via reports from the manufacturers and resellers, not from the Fed. Insurance sales have been up, but that must be life, as checks with major insurance carriers note that most homeowners (and office building policies) specifically exclude terrorism and war risk. However, a personal discussion today has revealed that (within limits) some carriers (specifically those who have reinsurance arrangements that will be cooperative) say they're trying (as they are in New York since the attack) to meet the needs even if not required to; pending a Federal arrangement that will co-op the spreading of terrorist-related risks. None will commit to that yet; nor can you easily buy all-risk coverage.

However, when queried about Anthrax or other bioterrorism (such as in a case where the insured needed to have their office or home cleaned from exposure), the answer was a resounding 'no'; the insurance company would defer honoring any claims; one more time pending Federally-negotiated risk-sharing agreements. Conclusion: if you get bombed, they may pay, so long as it doesn't break a specific company; whereas if your mail contaminates offices or home, absolutely not. In fact this very particular insurance company (we were asked not to identify the executive or the firm, but it's among the top three) said they're steam-ironing all the incoming mail (we would presume through a towel, so as not to start a fire, which they would cover . . .do hope you appreciate the slightly wry (if there is any) humor in this kind of situation). All of this contributes to the continuing belief that the steepness of the recession clearly is aggravated by events; a reason we have argued for weeks a focus primarily on the domestic-centric stocks, that have performed better than the Dow Industrials. Sure, it's all-relative, and there will be pullbacks even in tech and non-multinationals, but it is increasingly clear we were on the right track to emphasize those over blue chips.

Fluid Dynamics

Our take on all this has been the same for these seven angst-filled weeks; that stocks would drop into a selling-climax panic taking the S&P solidly into the 900's, and then guidelines in December S&P's properly assessed the 940's as being that climactic washout which at minimum would generate what we subsequently saw; a solid move up for weeks, with staggered pauses-to-refresh along the way. To expect much more on the upside here is to believe the market is set-free after the mutual fund fiscal year typically ends, and/or that that there will be some grand-follow-through to the move. It makes sense if you simply contrast the start of the Gulf War, which denoted the stock market low at that time; it doesn't if you measure the valuation of multinationals, or as you consider fears (such as the McDonald's bomb that fortunately hurt nobody in the recent Rio attack) that terrorists may focus on a slew of less-protected symbolic U.S. corporate interests abroad. We have said this for ages, and such stocks have worked lower. Oxpressions are not meant to suggest rewarding any terrorist goal of course, but at the same time realize Government can't mandate increased or even constant levels of corporate commitments in certain politically unstable areas (the main thrust).

We're not at all dubious about the long-term future in civilized areas of the world; just recall how long it took to get American companies to invest abroad after former wars, and in the case of the Cold War (where the response was quicker), how many firms got at least superficially burned by early investments in Russia (rest reserved).

Technically . . . a subsequent idea to the market's September climax and automatic rally, was that the market would start having trouble last week(near the 1100 area of the December S&P), and that after some period of interim indigestion, would adjust as forecast. We suspect only the initial phases of that have been seen, and while we realize that there's a perception out there (with which we would normally agree) that the market can go much higher as a war commences, we suspect that it has to go at least through a retracement or test, and that may occur just about when many think it is again a low-risk time, such as now or after these final fiscal year-end fund activity. Given the nature of Wednesday's mediocre hold we expect more Thursday pressure. Balance of section -'threat matrix' and S&P target discussions- reserved for readers.

Economically . . this remains a very challenging domestic environment, at the best. While it's true that the deepest recessions precede the strongest rebounds (our idea for these past weeks), we have believed the added security considerations, that are to a great extent unprecedented (even in World War II, and certainly not the Desert Storm conflict), would contribute to a rougher-hewn rebound, and a more sectorized one at that. Hence our optimism about the NASDAQ and Nasdaq 100 (NDX) versus the Senior blue-chip (mostly multinational averages), and that has been proven by a degree of relative strength in the techs, regardless of brokerage downgrades, and the slew of forecasts predicting no improvements for another couple of years. No so bad.

In the meantime, the (900.933.GENE) hotline was only able to cull-out a few hundred points net gain in Wednesday's activity, after multiple homeruns typically in the recent sessions, again. That's primarily because we got our indicated run-up, and then what we assessed as a bit of a blow-off, a subsequent sell-off, and then a test of the highs. The extent of the overall corrective action (reserved) is going to determine the pattern beyond, as relates to the September lows big importance from a technical standpoint. Fundamentally, there's no change in both the risks to multinationals has warned of for years (most are near their 52-week lows at this time, as a matter of fact), and some opportunities for the leading low-debt techs, which in many cases are net-ahead since the twin disasters in New York & Washington D.C. on Sept. 11.

If one finds National disaster, it doesn't matter if one is long or short, wealthy or poor, in or out of the market. If one finds the crisis resolved in time, then one might as well have moved intelligently during all of it, as opposed to panicking into weakness, and then recently paying-up against our cautions, after the recent strong rebound. We've warned that greatest risks were not necessarily abroad (in early phases of wartime), and that events (that we'll touch on) again might drive home that particular thought. They continue to, unfortunately.

The biggest fear (and by saying 'all options are on the table', that's what is meant) is the impact outside of the Theater of War should we have to resolve this in a nuclear or similar way. This topic has been implied (but discussion avoided) from the start; it also is a subject that has been stated over the years as 'policy' in the event of direct attack in a nuclear or biochemical way against the United States. That's why the most current investigation is so important, whether Anthrax is a diversion or not, because if conclusive evidence ties this to any particular group or State, then risks of escalation will increase. Peoples preferring avoidance of this alternative should hope the special op's forces are able to knock-out OBL (or what remains if he's not already toasted) or even in the use of fuel-air bombs; to prevent triggering politically-difficult options; an alternative that would indeed conjure up all sorts of concerns or questions of stability, both for enemies and nominal allies, such as exist in that part of the world. For that reason alone, the Islamic world's leaders should encourage the current war efforts.

Bits & Bytes . . . does not constitute a buy, sell, short or hold, but touches on several stocks nightly, typically; in this case: AT&T (T); Analog Devices (ADI); Intel (INTC) and Microsoft (MSFT), as well as Thompson Multimedia (TMS); Tyco (TYC) and Nokia (NOK). Economic News & Releases: (a subscriber-reserved section).

In summary . . . again, as suspected, techs did the best, and the suggested big-cap rollover risk presented itself with Tuesday's action, and persisted Wednesday; both in ways indicated likely here at and on the 900.933.GENE hotline. We're still optimistic for the very longer-term, but not particularly for the very short-term, per our reversal warnings over the past week, after decisively having scored homeruns on the upside through Monday, and then the expected Tuesday turnaround back to the downside, which Wednesday resisted, but probably resumes in short-order. That the market couldn't put together solid upside on Wednesday, devoid of intraweek sellers yet, is a good hint that risks may again be on the rise in the next day or two. Wednesday's McClellan Oscillator on the NYSE dipped to +30, and the NASDAQ actually held stable, near the +38 level (actually a tad higher) once more. Our ideas over these past weeks of 'relative' strength of the NASDAQ vs. the NYSE were valid.

Clearly markets and the National morale, are very dependent on short-term results, while recognizing that overall efforts against terrorism must be very enduring indeed. In mid-evening trading, the S&P is at a -20 discount to cash; with futures down near half a point from regular closing prices. God bless our Forces in their continuing very challenging efforts, and our people here at home, in their own difficult struggles that increasingly involve at least the concerns of others. As time goes on, we expect this Government to get a better handle not only on not only where the threats are coming from, but to respond to those threats by increasingly harsher means, if our peoples continue to be threatened and attacked, as has occurred again; and is unfortunately a comment that remains unchanged from the past few nights' interpretations.

One ounce of gold is so ductile it can be drawn into a wire 50 miles long

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